Mr Cameron provoked widespread anger among European leaders by refusing to back a deal to rescue the eurozone, delighting Tories and raising questions about Britain’s future in the EU.
After Nicolas Sarkozy, the French president, led objections to his “unacceptable” demands for legal protections for the City of London, the Prime Minister refused to give Britain’s backing for a new treaty to create a “fiscal union” among eurozone members.
At the end of an acrimonious summit in Brussels, all 26 other EU members signalled they could now support the new treaty, leaving Britain in a minority of one.
Conservative MPs welcomed Britain’s move back towards the traditional Tory stance of “splendid isolation” in Europe — a term for the foreign policy of the late 19th century.
Liberal Democrats said the move would reduce Britain’s influence. Nick Clegg, the Deputy Prime Minister, raised fears of a “two-speed Europe,” a prospect rejected by Conservative ministers.
European leaders and Tory sceptics alike suggested that Mr Cameron had set Britain on a course that could end with departure from the EU. The Prime Minister insisted he was committed to the EU, but acknowledged the uncertainties he had unleashed.
“Membership is in our interests,” he said. “I’ve always said if that’s the case I’ll support our membership.”
Paris and Berlin will now try to agree a treaty outside the EU that commits the eurozone members to new limits on their deficits, in an effort to restore financial markets’ confidence. As well as the 17 countries using the single currency, the nine other EU members could also sign up, making Britain the only member outside the “euro-plus” bloc.
Despite initial signs that Hungary would remain outside the treaty, it later said it was likely to sign. Sweden and the Czech Republic sympathised with Mr Cameron’s position, but signalled they too could sign up.
The new group’s creation prompted warnings that a eurozone “caucus” would use its voting power to impose rules to Britain’s detriment.
Tories fear an enhanced euro group could try to impose a financial transactions tax on Britain. The Government estimates that the tax could cost the country £26 billion a year.
Mr Cameron also faces a legal and political battle to stop the new group using the European Commission, the European Court of Justice and their staff and buildings to support its new budget rules.
As institutions created and funded by all 27 EU members, they should not be used for non-EU work, he said.
Carl Bildt, the Swedish foreign minister, said he was “worried that Britain is starting to drift away from Europe”. Guy Verhofstadt, a senior MEP, said Mr Cameron’s decision “leaves the UK outside the economic policies of the EU”.
Mario Monti, the new Italian prime minister, said Mr Cameron’s decision would lead to “a certain isolation” of Britain. Some EU officials warned that Mr Cameron had sparked long-term hostility to Britain. The Prime Minister dismissed such warnings, insisting that the decision related to the euro and would not affect other aspects of the EU.
“Britain’s membership of the European Union, membership of the single market, influence in the European Union will be maintained,” he said.
Back in Britain, the early morning news was greeted with jubilation by Conservatives. Boris Johnson, the Mayor of London, said the Prime Minister had “played a blinder”.
Many Tory MPs said this should be the beginning of Britain’s journey away from the heart of the EU rather than the end.
Mark Pritchard, the secretary of the 1922 Committee of back-bench Tory MPs, said the Government would have to order a referendum on the EU before 2015.
Mr Cameron insisted that he was not interested in the looser relationship with the EU sought by some of his party.
“Britain is in the European Union because it is good for British jobs, for British investment, for British trade,” he said. “We are a trading nation, we need those markets open.”
The summit saw bad-tempered exchanges between Britain and France, and some diplomats believe Anglo-French relations will suffer long-term damage from the spat.
Mr Sarkozy described Mr Cameron’s proposals to protect the City of London as “unacceptable”.
Michael Gove, the Education Secretary, insisted that Mr Cameron had been right. “Just because you are in a minority it doesn’t mean that you are wrong,” he said. But he also admitted he could not say what the events would mean for Britain’s position in Europe.
However, the new European policy could put strain on the Coalition. One Lib Dem MEP said Mr Cameron had “betrayed” Britain.
Ed Miliband, the Labour leader, said Britain’s isolated position was a “terrible outcome”. He said: “Frankly, David Cameron mishandled these negotiations spectacularly.”